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PwC Comments On UK Pension Tax Reform Rumours

by Robert Lee,, London

20 February 2012

PwC has analysed the options allegedly mooted by the UK government in its rumoured look at reducing tax relief on pensions saving.

With Chancellor George Osborne due to unveil his latest Budget in March, PwC has turned its eye to the speculation surrounding pensions tax relief.

Among the options thought to be available to the government is slashing relief on all contributions to the basic 20% rate. This, PwC says, would result in higher rate taxpayers at the 40% threshold losing GBP20 (USD31) for every GBP100 invested into a pension. Indeed, for an individual investing GBP1,500 a year into a pension this equates to GBP300.

Those paying the 50% top rate of tax would lose GBP30 for every GBP100 invested. Pensions are taxable on receipt, meaning that there would be further tax to pay possibly at the 40% or 50% rate when the taxpayer retires.

In addition, depending on how reform is implemented, many in a defined benefit scheme could find themselves needing to complete a tax return. PwC says this would occur because the extra tax charge could not easily be deducted at the outset, as with a defined contribution scheme, but may need to be calculated by reference to the increase in pension benefits during the year and taxed as a benefit-in-kind. Administration of this would not be straightforward and would introduce extra complexity into the pensions savings framework, PwC warns.

Raj Mody, head of the pensions group at PwC, commented: "Should pensions tax relief be reduced to basic rate relief, higher and top rate tax payers may be better off if they were simply paid cash and taxed on it as income tax at the time."

Alex Henderson, tax partner at PwC, added: "There would be real practical problems with calculating and applying a restriction on tax relief for all 40 and 50% taxpayers in defined benefit schemes. People would essentially need to get used to seeing a charge for their pension as they would do for a company car or any other benefit."

A second option the government is rumoured to have considered is a reduction in the annual allowance. At present, the annual allowance for tax efficient pension saving is currently GBP50,000, having been reduced from GBP255,000 in April, 2011.

PwC believes that capping the allowance further would be a simpler measure to implement and would still give everyone a strong incentive to put some money into a pension. On the other hand, depending what the allowance is reduced to, substantial numbers of 'middle income' earners could be affected. In particular, those who have been in final salary schemes for some time could be hit, seeing benefit-in-kind charges if the increase in their pension pot exceeds the allowance in any year.

Mody noted: "The annual allowance was set at this level after significant consideration and industry consultation, and there was a clear expectation of stability in this regime."

Lastly, the government could cut the tax free lump sum on retirement. PwC notes the speculation late last year that lump sums taken out on retirement could be taxed. HM Revenue and Customs estimates the cost of this relief at GBP2.5bn. Given that lump sums are commonly used by savers to ease the transition into retirement, PwC argues that those most affected by this change could be people approaching retirement. They would see an effective tax rise on their pension pot relative to their expectations.

Mody concluded: "Economic necessity means the government is exploring every means of clawing back revenue. The problem is pensions have been tampered with so much in recent years that further changes risk eroding trust in pensions. This could cause longer-term problems if ultimately people save less for retirement."

TAGS: individuals | tax | investment | pensions | fiscal policy | law | retirement | budget | United Kingdom | tax breaks | tax reform

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